Company loan tax changes on the way!

Following on from announcements made in the 2017-18 and 2018-19 Federal Budgets, Treasury has released a consultation paper that explains significant proposed changes to the ‘Division 7A’ rules regarding loans from private companies to shareholders and associates. Some of the key proposals due to commence from 1 July 2019 are summarised below:

1) Currently, Division 7A loans may be placed under a 7 or 25-year loan agreement, however, the new rules would only provide for a maximum 10-year period. Annual repayments of principal and interest would be required to prevent a ‘deemed dividend’ from arising.

2) The statutory interest rate for Division 7A loans will increase from the housing rate to the small business overdraft rate (currently more than 3% higher).

3) Transitional rules would apply to bring all existing Division 7A loans into the 10-year loan model. 7-year loans would retain their existing outstanding term. Existing 25-year loans would be exempt from the new rules until 30 June 2021, however, they would then need to be changed to a 10-year term.

4) Loans made before 4 December 1997 that have not been forgiven (or deemed to have been forgiven) will be brought within the scope of Division 7A. They will be treated as financial accommodation as at 30 June 2021 and will need to be repaid or placed under a complying loan agreement by the company’s lodgement day for the 2021 tax return to avoid a deemed dividend.

5) The concept of ‘distributable surplus’ will be completely removed, which means that the entire value of the loan, payment or forgiven debt will be an assessable deemed dividend regardless of the financial position of the company.

6) Unpaid present entitlements (UPEs) will trigger a deemed dividend unless they are paid out or placed under a complying loan agreement by the lodgement day of the company’s tax return. Existing UPEs that arose between 16 December 2009 and 30 June 2019 will be brought within the scope of these new rules as well, and will need to be restructured for tax purposes to 10-year loans. Treasury is still considering whether UPEs that arose before 16 December 2009 should be brought within the scope of Division 7A.

7) The amendment period for Division 7A issues will be extended to cover 14 years after the end of the income year in which the loan, payment or debt forgiveness occurred.

Given the proposed start date for most of the changes is 1 July 2019, once the legislation is released this won’t leave much time for to understand how the new rules apply; especially as it appears that the changes will impact on existing arrangements – particularly in relation to 25-year loans and UPEs that have been placed under a 7 or 10-year sub-trust arrangement.

Please let us know if you would like to discuss the proposals.